The Dutch Disease in Ethiopia

Aid and the Dutch Disease in Ethiopia
AID AND THE DUTCH-DISEASE IN ETHIOPIA
Monetary Policy and Economic Research Directorate
National Bank of Ethiopia
Teferi Mequaninte [e-mail] May, 2005
SECTION ONE
Introduction
Following the introduction of the Structural adjustment program (SAP) in 1992 to the Ethiopian economy, there was a massive inflow of foreign aid in the form of grants, concessional loans and technical assistance. Net aid1 inflows to Ethiopia during the Derg period were around 7 percent of GDP and are doubled to 14 percent of GDP during the EPRDF regime. These elevated flows have raised a number of concerns, ranging from fears about the effect of aid inflows on the real exchange rate and export performance. The source of anxiety for all this is the Dutch disease problem of foreign aid. While seemingly beneficial foreign aid inflows may generate undesirable effects in the economy. These undesirable effects include a decline in export performance and manufacturing production caused by appreciation of the real exchange rate and resources moving out of manufacturing into other sectors (Timothy,1997). There are also concerns about aid sustainability. Specifically, while LDCs have been forced to take on greater burden of global adjustment, most donor countries have been unwilling to expand financial support for adjustment in the LDCs (Bigsten, 2003). These could be due to different motives by the donor countries. Instead of addressing the most developmental constraints of a recipient country, donors may wish to enhance the military prow ness of a recipient country, to promote their commercial interest, to support a friendly government in power, and/or to acquire goodwill in the expectation that it would be politically valuable later (Krueger, 1991). As has been well documented in the works of Adams et al (1994), foreign aid inflows cannot continue indefinitely given donor fatigue and the growing competition for aid funds among LDCs.
Still,

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